Companies that expand overseas commonly rely on financing to do so. Steps to take consideration in financing can be categorized as follows. In my experience in private international finance and previously in the banking industry, I have seen best practices on how treasury and finance departments can find the funding to help their organizations expand abroad.
Financing options can be divided into types: direct and indirect.
Direct financing. In this type of financing, the final credit supplier and the borrowing company are directly connected without any intermediary, and the borrower issues securities and sells down to investors/underwriters. This type of financing is best for long-term financing, and is a more complicated process. For example, information disclosure in the case of a public offering is required.
Indirect financing. Indirect financing means that a financial intermediary, including banks, functions as the final credit supplier to the borrowing organization. The financing process actually is relatively simple and predictable, and funding for needed working capital is more flexible than direct financing focused on a long-term deal. Leases also are a form of indirect financing, but leases typically cost more than bank financing.
When identifying overseas funding sources there are several quantitative and qualitative issues to consider.
Currency. The financing can be a major global currencies such as the U.S. dollar, or the local currency where the business resides. The goal is to prevent FX risk by choosing the right currency to match FX inflow and outflow. It’s also important to consider market arbitrage in FX. For example, you can get funding in currency X and convert it into currency Y using a cross-currency swap. If the final interest rate beats the direct currency Y funding, you can take arbitrage in the funding.
Interest rate. Consider interest rates in each country, market convention, fixed/variable interest rate, and interest rate swap levels. In addition, the International Swaps and Derivatives Association contract, margin level, or any other guarantee if you make a swap, needs to be reviewed. Credit default swaps premiums and new-issue premiums also are factors.
Maturity. Your forecasted cash balance, funding market in each tenor, and funding condition can have an effect on the deciding maturity level.
Related costs. Up-front fees, agent fees, commitment fees, redemption costs, legal costs, guarantee fees, rating fees, registration fees, due diligence/roadshow fees, custodian fees, are just some of the costs that treasury and finance departments typically underestimate when planning their overseas financing.
Taxation. Your organization’s legal/accounting team needs to review any overseas financing deal for such taxes as stamp duties, withholding taxes, local taxes, or any other tax credits.
Debt-Equity ratio. Special bond issuance such as hybrid convertible can improve financial structure by partially recognizing as equity.
Funding stability. This means the necessary amount that can be funded at the time the company wants. In the case of indirect financing, the funding is quite stable if a credit approval is performed. If multiple banks participate in the funding, it gets more complicated. Some banks financing different amount and set different financing conditions that are not aligned with other banks. In this case, funding stability can be better secured when one or two leading banks arrange or fully commit to the deal.
Funding diversification. The finance manager should decide which structure works best. He or she may choose multiple financial institutions and even consider some as long-term strategic partners. Fewer deal participants also makes for greater confidentiality, deal structure stability, and commitment from the institutions.
Regulation. Legal matters should be reviewed prior or on-going stage. Also, it should be discussed or approved with related government bodies. Others are overall structuring/settlement can be executable by financial institutions, and business day calendars for baking plan and redemption.
Negotiation. When negotiating financing with a local financial institution, treasurers should understand that negotiation leverage or responsiveness can weaken. Consider a private contract rather than a standard one to receive better terms.
Capital markets development. Major factors to consider include liquidity, price discovery, market situation, transaction history, market infrastructure, and the market participant pool.
Donghyun Lee is Finance Manager, Finance & Investment Division, POSCO, South Korea.Read the entire article in the September issue of Exchange.